<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB/A#1
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE COMMISSION
For the quarterly period ended September 30, 1998
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934.
For transition period from _______________ to _______________
Commission File Number: 0-17953
DIAMOND ENTERTAINMENT CORPORATION
(Exact name of registrant as specified in its charter)
NEW JERSEY 22-2748019
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
16200 CARMENITA ROAD, CERRITOS, CALIFORNIA 90703
(Address of principal executive offices)
(562) 921-3999
(Issuer's telephone number, including area code)
-------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. YES [ X ] NO [ ]
As of February 4, 1999, there were 34,514,342 shares of common stock
outstanding.
Transitional Small Business Disclosure Format (check one): YES [ ] NO [X]
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
INDEX TO FINANCIAL STATEMENTS
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
<S> <C>
Item 1: Financial Statements
Balance Sheet as of September 30, 1998 [Unaudited]...............................................1...2
Statements of Operations for the six months ended
September 30, 1998 and 1997 [Unaudited]..........................................................3
Statements of Stockholders' Equity for the six months ended
September 30, 1998 [Unaudited]...................................................................4
Statements of Cash Flows for six months ended September 30, 1998
and 1997 [Unaudited].............................................................................5...7
Notes to Financial Statements [Unaudited]........................................................8...25
Item 2: Management's Discussion and Analysis or Plan of Operations.......................................26...32
PART 2. OTHER INFORMATION
Item 1: Legal Proceedings................................................................................33
Item 2: Changes in Securities............................................................................33...34
Item 3: Defaults Upon Senior Securities..................................................................34
Item 4: Submission of Matters to a Vote of Security Holders..............................................34
Item 5: Other Information................................................................................34
Item 6: Exhibits and Reports on Form 8-K.................................................................34
Signatures................................................................................................35
</TABLE>
<PAGE>
ITEM 1: FINANCIALS
DIAMOND ENTERTAINMENT CORPORATION
BALANCE SHEET AS OF SEPTEMBER 30, 1998 [UNAUDITED]
<TABLE>
<CAPTION>
<S> <C>
ASSETS:
CURRENT ASSETS:
Cash: $ 47
Accounts Receivable - Net 1,128,007
Inventory 3,276,951
Prepaid Expenses and Deposits 37,491
Related Party Receivable 38,785
----------------
TOTAL CURRENT ASSETS 4,481,281
----------------
PROPERTY AND EQUIPMENT:
Leasehold Improvements 28,258
Furniture, Fixtures and Equipment 981,215
----------------
TOTAL - AT COST 1,009,473
LESS: Accumulated Depreciation 713,484
----------------
PROPERTY AND EQUIPMENT - NET 295,989
----------------
FILM MASTERS AND ARTWORK 3,832,799
LESS: Accumulated Amortization 3,489,212
----------------
TOTAL FILM MASTERS AND ARTWORK - NET 343,587
----------------
OTHER ASSETS:
Accounts Receivable - ATRE 76,181
Related Party Receivable 100,575
Other Assets 130,057
----------------
TOTAL OTHER ASSETS 306,813
----------------
TOTAL ASSETS $ 5,427,670
----------------
----------------
</TABLE>
The Accompanying Notes are an Integral Part of These Financial Statements.
1
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
BALANCE SHEET AS OF SEPTEMBER 30, 1998 [UNAUDITED]
<TABLE>
<CAPTION>
<S> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY:
CURRENT LIABILITIES:
Accounts Payable $ 1,551,213
Convertible Promissory Notes Payable 851,448
Notes Payable 4,099,462
Lease Obligations Payable 2,594
Accrued Expenses 493,912
----------------
TOTAL CURRENT LIABILITIES 6,998,629
LONG-TERM LIABILITIES:
Lease Obligations Payable 9,602
TOTAL LIABILITIES 7,008,231
----------------
COMMITMENTS AND CONTINGENCIES [5] [6] ---
----------------
STOCKHOLDERS' EQUITY:
Convertible Preferred Stock - No Par Value,
5,000,000 Shares Authorized; 483,251 Issued
[of which 172,923 are held in Treasury] 376,593
Common Stock - No Par Value,
100,000,000 Shares Authorized;
31,776,327 Shares Issued and Outstanding 10,529,397
Additional Paid-in Capital (1,160,231)
Retained Earnings [Deficit] (11,227,087)
Sub-Total (1,481,328)
Less: Treasury Stock [Preferred] - At Cost (48,803)
Deferred Costs [5D] [5G] (50,430)
----------------
TOTAL STOCKHOLDERS' EQUITY [DEFICIT] (1,580,561)
----------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY [DEFICIT] $ 5,427,670
----------------
----------------
</TABLE>
The Accompanying Notes are an Integral Part of These Financial Statements
2
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
STATEMENT OF OPERATIONS [UNAUDITED]
<TABLE>
<CAPTION>
Three months ended Six months ended
September 30, September 30,
1998 1997 1998 1997
----------------- ----------------- --------------- ----------------
<S> <C> <C> <C> <C>
SALES - NET $1,286,443 $2,356,894 $2,077,307 $4,565,683
COST OF SALES 827,954 1,798,362 1,407,810 3,054,536
----------------- ----------------- --------------- ----------------
GROSS PROFIT 458,489 558,532 669,497 1,511,147
----------------- ----------------- --------------- ----------------
OPERATING EXPENSES:
Selling Expenses 243,217 336,951 471,486 586,038
General and Administrative Expenses 388,788 273,765 629,351 723,220
Factoring Fees 14,731 327 58,416 237
Bad Debt Expense -- 30,000 106 60,000
----------------- ----------------- --------------- ----------------
TOTAL OPERATING EXPENSES 646,736 641,043 1,159,359 1,369,585
----------------- ----------------- --------------- ----------------
OPERATING INCOME [LOSS] (188,247) (82,511) (489,862) 141,562
----------------- ----------------- --------------- ----------------
OTHER EXPENSES [INCOME]:
Interest Expense 63,848 75,122 182,250 139,927
Interest Income - Related Party (63) (31,809) (853) (63,391)
Other Income (242) (135,412) (13,015) (135,848)
----------------- ----------------- --------------- ----------------
OTHER EXPENSES [INCOME] - NET $ 63,543 (92,099) 168,382 (59,312)
----------------- ----------------- --------------- ----------------
NET INCOME [LOSS] BEFORE
EXTRAORDINARY INCOME (251,790) 9,588 (658,244) 200,874
----------------- ----------------- --------------- ----------------
EXTRAORDINARY INCOME -- -- (66,000) --
----------------- ----------------- --------------- ----------------
NET INCOME [LOSS] $ (251,790) $ 9,588 $ (592,244) $ 200,874
----------------- ----------------- --------------- ----------------
----------------- ----------------- --------------- ----------------
NET INCOME [LOSS PER SHARE] BEFORE
EXTRAORDINARY INCOME $ (.01) -- $ (.02) $ .01
----------------- ----------------- --------------- ----------------
----------------- ----------------- --------------- ----------------
NET INCOME [LOSS PER SHARE] $ (.01) -- $ (.02) $ .01
----------------- ----------------- --------------- ----------------
----------------- ----------------- --------------- ----------------
WEIGHTED AVERAGE NUMBER OF
SHARES OUTSTANDING 31,709,660 13,837,280 26,640,079 13,837,280
----------------- ----------------- --------------- ----------------
----------------- ----------------- --------------- ----------------
</TABLE>
The Accompanying Notes are an Integral Part of These Financial Statements.
3
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY [UNAUDITED]
<TABLE>
<CAPTION>
CONVERTIBLE COMMON STOCK ADDITIONAL
PREFERRED STOCK PAID-IN RETAINED
NUMBER OF NUMBER OF -------- EARNINGS
SHARES AMOUNT SHARES AMOUNT CAPITAL [DEFICIT]
-------- -------- ---------- ----------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE - APRIL 1, 1998 483,251 $376,593 28,753,250 $10,417,647 $(1,210,231) $(10,634,843)
Debt Converted [7D] --- --- 2,823,077 91,750 --- ---
Consulting Expense [5D] --- --- --- --- --- ---
Guarantee Debt [13G] --- --- --- --- 50,000 ---
Exercise of Options[13F] 200,000 20,000
Debt Converted --- ---
Net Income for the six months ended
September 30, 1998 --- --- --- --- --- (592,244)
-------- -------- ---------- ----------- ------------ ------------
BALANCE - SEPTEMBER 30, 1998 483,251 $376,593 31,776,327 $10,529,397 $(1,160,231) $(11,227,087)
-------- -------- ---------- ----------- ------------ ------------
-------- -------- ---------- ----------- ------------ ------------
</TABLE>
<TABLE>
<CAPTION>
TREASURY TOTAL
STOCK STOCKHOLDERS'
[PREFERRED] DEFERRED EQUITY
AT COST COSTS [DEFICIT]
---------- -------- ------------
<S> <C> <C> <C>
BALANCE - APRIL 1, 1998 $(48,803) $(94,180) $ (1,193,817)
Debt Converted [7D] --- 91,750
Consulting Expense [5D] --- 43,750 43,750
Guarantee Debt [13G] --- 50,000
Exercise of Options[13F] 20,000
Debt Converted --- --- ---
Net Income for the six months ended
September 30, 1998 --- --- (592,244)
---------- -------- ------------
BALANCE - SEPTEMBER 30, 1998 $(48,803) $(50,430) $ (1,580,561)
---------- -------- ------------
---------- -------- ------------
</TABLE>
The Accompanying Notes are an Integral Part of These Financial Statements.
4
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
STATEMENTS OF CASH FLOWS [UNAUDITED]
<TABLE>
<CAPTION>
Three months ended Six months ended
September 30, September 30,
1998 1997 1998 1997
----------------- --------------- ----------------- ---------------
<S> <C> <C> <C> <C>
NET CASH - OPERATING ACTIVITIES: $(271,871) $713,858 $(2,717,397) $1,038,402
Investing Activities
Advances to ATRE -- (67,400) -- (75,620)
Proceeds by ATRE 341,800 40,000 423,820 40,000
Advances to Officers -- (133,223) -- (131,541)
Payment of Officers' Loans
Receivable -- 129,900 -- 129,900
Capital Expenditures (2,495) (3,953) (35,290) (3,953)
Masters and Artwork (25,048) (101,993) (42,491) (101,993)
----------------- --------------- ----------------- ---------------
NET CASH - INVESTING ACTIVITIES $314,257 $(136,669) $ 346,039 $ (143,207)
----------------- --------------- ----------------- ---------------
FINANCING ACTIVITIES:
Proceeds from Notes Payable 1,283,775 6,680,225
Payment of Notes Payable (1,467,769) (23,546) (4,262,267) (259,365)
Payments of Lease Payable (1,660) (3,720) (2,982) (9,895)
Exercise of Options and Warrants 20,000 20,000
Cash Overdraft 120,209 (81,734) (69,101) (157,746)
----------------- --------------- ----------------- ---------------
NET CASH - FINANCING ACTIVITIES (45,445) (109,000) 2,365,875 (427,006)
----------------- --------------- ----------------- ---------------
NET INCREASE [DECREASE] IN CASH (3,059) 468,189 (5,483) 468,189
CASH - BEGINNING OF PERIODS 3,106 -- 5,530 --
----------------- --------------- ----------------- ---------------
CASH - END OF PERIODS $ 47 $ 468,189 $ 47 $ 468,189
----------------- --------------- ----------------- ---------------
----------------- --------------- ----------------- ---------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
Cash paid during the periods for:
Interest $ 93,753 $ 8,057 $ 211,925 $ 76,430
Income Taxes -- -- -- --
</TABLE>
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
On April 13, 1995, the Company's former President surrendered his employment
contract and returned 146,654 shares of the Company's preferred stock back to
the Company as treasury stock. Equipment with a carrying value of approximately
$170,000 was transferred from the Company and the Company's former President
assumed all remaining obligations on these assets of approximately $75,000.
The Accompanying Notes are an Integral Part of These Financial Statements.
5
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
STATEMENTS OF CASH FLOWS [UNAUDITED]
On May 8, 1995, the Company closed the sales agreement with an unaffiliated
company for $750,000 by allowing credit to the Company for future duplication
services. The Company received $750,000 of duplication services and surrendered
equipment having a book value of approximately $630,000.
In May of 1995, three debt obligations totaling $1,131,434 were assigned to the
Company's Chief Executive Officer. In July of 1995, 8,212,785 shares of the
Company's common stock were issued to the officer for this obligation.
Pursuant to the June 15, 1995 assignment of debt agreement, the Company's
$658,750 obligation to its former underwriter was purchased by an unaffiliated
Company. On July 19, 1995, an agreement was reached to issue 2,538,446 shares of
the Company's common stock to the underwriter for this obligation.
In December 1995, the Company settled a debt with a creditor for $390,000 less
than the carrying amount.
During the year ended March 31, 1997, the Company entered into a capital lease
agreements for equipment totaling $25,900.
During fiscal 1997, $290,000 in convertible debentures were converted into
1,450,000 shares of common stock. During fiscal 1998, $229,848 of convertible
debentures were converted into 6,037,668 shares of common stock.
In August 1997, the Company granted warrants in connection with consulting
agreements and recorded $100,000 in deferred consulting costs and expensed
$30,820 for the year ended March 31, 1998.
In September 1997, the two officers agreed to defer 90% of their salaries until
further notice, but not beyond March 31, 1998. As consideration, the Company
granted a total of 3,750,000 shares of common stock and warrants to purchase
3,750,000 shares of the Company's common stock at an exercise price of $.10 per
share. The common shares granted will be fully vested on December 31, 1997 and
the warrants are exercisable over a two year period beginning March 31, 1997.
The Company recorded $75,000 in deferred costs for the fair value of the shares
granted and amortized $50,000 for the year ended March 31, 1998. No deferred
costs were recorded for the warrants granted as the fair market value of the
underlying common shares was approximately equal to the exercise price.
In September of 1997, the Company negotiated a one year extension agreement for
the convertible debentures and agreed to add 15% to the debentures as a deferred
financing cost of $110,721, which will be amortized over one year as interest
expense [See Note 19C]
6
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
STATEMENTS OF CASH FLOWS [UNAUDITED]
During fiscal 1998, there were retirements of film masters and artwork for
approximately $625,000.
The Accompanying Notes are an Integral Part of These Financial Statements.
7
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[1] SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF BUSINESS - On April 13, 1995, the Board of Directors approved the
spin-off of its custom duplication business. The Company is engaged in the
distribution of video tapes and CD-ROMS for the home market including children's
cartoons, educational programs, motion picture, television programs,
instructional computer videos, as well as computer software and principally
markets its products to national and regional chain stores, department stores,
drug stores, supermarkets and similar types of retail outlets. Its products are
sold through national retail chains primarily in the northeast, the south and
the east coast. The Company has licensing agreements with numerous entities and
in addition maintains products without licensing agreements. The licensing
agreements grant the Company the right to manufacture, duplicate, distribute and
advertise the video or computer software. As a result of its merger with Beyond
Design Corporation ["BDC"] in 1997, the Company is also engaged in the marketing
and distribution of children's toys to mass merchandisers through sales
representatives and distributors.
BASIS OF REPORTING - The accompanying unaudited financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB and Item 310(b)
of Regulation S-B. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, such statements include all
adjustments which are considered necessary in order to make the interim
financial statements not misleading.
PRINCIPLES OF CONSOLIDATION - The accompanying consolidated financial statements
include the accounts of the Company and its subsidiaries all of which are
wholly-owned. Intercompany transactions and balances have been eliminated in
consolidation.
REVENUE RECOGNITION - Sales are recorded by the Company when products are
shipped to customers and are shown net of returns and allowances.
INVENTORIES - Inventories are stated at the lower of cost [under the first-in,
first-out method] or market.
DEPRECIATION - Property and equipment are presented at cost less accumulated
depreciation. Depreciation is computed by the straight-line method for all
furniture, fixtures, and equipment over 5-10 years, which represents the
estimated useful lives of the respective asset.
Leasehold improvements are being amortized over the lesser of their estimated
useful lives or the remaining term of the lease.
Depreciation expense for the six months ended September 30, 1998 and 1997 was
$40,807 and $37,215, respectively.
8
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[1] SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES [CONTINUED]
DEPRECIATION [CONTINUED] - On sale or retirement, the asset cost and related
accumulated depreciation are removed from the respective accounts, and any
related gain or loss is reflected in income. Repairs and maintenance are charged
to expense when incurred.
FILM MASTERS AND ARTWORK - The cost of film masters and related artwork is
capitalized and amortized using the individual-film-forecast computation method
which amortizes costs in the ratio that current gross revenues bear to
anticipated total gross revenues over a period of up to three years. The Company
periodically reviews its estimates of future revenues for each master and if
necessary a revision is made to amortization rates and a writedown to net
realizable value may occur. The net film masters and artwork are presented on
the balance sheet at the net realizable value for each master. Film masters
consist of original "masters" which are purchased for the purpose of
reproduction and sale.
Amortization expense for the six months ended September 30, 1998 and 1997 was
$60,254 and $134,710, respectively.
ADVERTISING COSTS - Adverting cost are expensed as incurred. Advertising costs
of $21,789 and $14,028 were expensed for the six months ended September 30, 1998
and 1997, respectively.
BAD DEBTS - An allowance for doubtful accounts is computed based on a review of
each individual account receivable and its respective collectibility. The
allowance for doubtful accounts is $266,222 at September 30, 1998.
NET [LOSS] PER SHARE -The FASB issued SFAS No. 128, "Earnings Per Share," in
February 1997. SFAS No. 128 simplifies the earnings per share ["EPS"]
calculations required by Accounting Principles Board ["APB"] Opinion No. 15, and
related interpretations, by replacing the presentation of primary EPS with a
presentation of basic EPS. SFAS No. 128 requires dual presentation of basic and
diluted EPS by entities with complex capital structures. Basic EPS includes no
dilution and is computed by dividing income available to common stockholders by
the weighted-average number of common shares outstanding for the period. Diluted
EPS reflects the potential dilution of securities that could share in the
earnings of an entity, similar to the fully diluted EPS of APB Opinion No. 15.
SFAS No. 128 is effective for financial statements issued for periods ending
after December 15, 1997, including interim periods; earlier application is not
permitted. The Company has adopted SFAS No. 128, prior period EPS data have been
restated. Basic EPS is based on average common shares outstanding and diluted
EPS include the effects of potential common stock, such as, options and
warrants, if dilutive. The Company has potentially dilutive securities that were
not included in the computation of diluted earnings per share because to do so
would have been anti-dilutive for the periods presented. Such securities may
dilute EPS in future years.
USE OF ESTIMATES - The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the
9
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[1] SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES [CONTINUED]
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
STOCK OPTIONS ISSUED TO EMPLOYEES - The Company adopted Statement of Financial
Accounting Standards ["SFAS"] No. 123, "Accounting for Stock-Based Compensation"
on April 1, 1996 for financial note disclosure purposes and will continue to
apply the intrinsic value method of Accounting Principles Board ["APB"] Opinion
No. 25, "Accounting for Stock Issued to Employees" for financial reporting
purposes.
DEFERRED TAXES - There are no material temporary differences that will result in
taxable amounts in future years. The Company has sustained losses in recent
years and has a large net operating loss carryforward. No deferred taxes are
reflected in these financial statements [See Note 9].
CONCENTRATIONS OF CREDIT RISK - Financial instruments that potentially subject
the Company to concentrations of credit risk are cash and cash equivalents and
accounts receivable arising from its normal business activities. The Company
routinely assesses the financial strength of its customers and, based upon
factors surrounding the credit risk, establishes an allowance for uncollectible
accounts and, as a consequence, believes that its accounts receivable credit
risk exposure beyond such allowance is limited. The Company places its cash and
cash equivalents with high credit quality financial institutions. The amount on
deposit in any one institution that exceeds federally insured limits is subject
to credit risk. The Company had no deposits as of September 30, 1998 with
financial institutions subject to a credit risk beyond the insured amount.
[2] ACCOUNTS RECEIVABLE
Accounts receivable at September 30, 1998 net of allowance for doubtful
accounts, were $266,222. Substantially all of the accounts receivable at
September 30, 1998 have been pledged as collateral for the line of credit [See
Note 7A].
[3] INVENTORY
Inventory as of September 30, 1998 consists of:
<TABLE>
<CAPTION>
<S> <C>
Raw Material $ 119,838
Finished Goods 3,157,113
---------
TOTAL: $ 3,276,959
------ ----------------
----------------
</TABLE>
An allowance of $280,577 has been established for idle inventory.
10
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[4A] RELATED PARTIES RECEIVABLES
At September 30, 1998, the Company was owed $69,770 from the President of the
Company for advances and loans. Simple interest is accrued monthly at an
annual rate of 10% on the outstanding balance. This loan amount is due in
December 2001.
[4B] AMERICAN TOP REAL ESTATE ["ATRE"]
The Company paid $50,000 for a 50% interest in ATRE. This investment is
accounted for on the equity method.
In September 1996, a parcel of land was sold and proceeds were retained for
future sewage construction needed for a 20 acre property. The Company received
$121,600 from ATRE for this parcel of land in fiscal 1997.
During the year ended March 31, 1998, ATRE sold approximately 11 acres. The
Company advanced an additional $80,320 to ATRE and received $220,600 from the
proceeds of the parcel of 10 acres as repayment of the advances to ATRE in
fiscal 1998. The Company also received approximately $424,000 from ATRE during
the period April 1, 1998 through September of 1998 and anticipates another
$50,000 by March 31, 1999.
At September 30, 1998, ATRE had binding sales contracts for the remaining
parcels of commercial real estate owned by ATRE as these parcels of land were
under development. In addition, the Company was advised by ATRE that proceeds
realized by ATRE during fiscal 1998 were reinvested into other parcels to
improve the ability to list and sell the remaining parcels. ATRE continues to
list these properties. Management of the Company received communication from a
real estate development specialist advising the Company that an aggregate
approximate value of $5,200,000 is calculated for the remaining ATRE parcels.
Although the Company believes that final sales contracts will be able to be
consummated, at this time it is not possible to predict with any certainty when
the closing of these sales contracts of real estate may occur or whether the
proceeds expected by the Company for their share in this real estate could be
significantly less than anticipated. Therefore, the ultimate realizable value of
the receivable for advances from ATRE could be substantially less than the
preadjusted carrying value of $1,600,000. At March 31, 1998, the Company setup a
valuation allowance of $1,117,788 and accordingly, charged operations for that
amount so that the amount due from ATRE at March 31, 1998 is presented at the
amount of the 1998 subsequent receipts of approximately $500,000. Based upon the
above circumstances at September 30, 1998 the likelihood is that $1,117,788 from
future proceeds from the sale of the ATRE parcels will not be realized with any
certainty.
[5] COMMITMENTS
[A] ROYALTY COMMITMENTS - The Company has entered into various royalty
agreements for exclusive licensing of titles for terms of one to five years.
Certain agreements include minimum guaranteed payments.
11
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[5] COMMITMENTS [CONTINUED]
[B] VIDEO AGREEMENTS - The Company has entered into various agreements to
manufacture, duplicate and distribute videos. Commissions are paid based upon
the number of videos sold.
[C] ACCOUNTS PAYABLE - The Company is currently delinquent on a significant
amount of its accounts payable.
[D] EMPLOYMENT AGREEMENTS - In 1991, two employment agreements were executed for
two officers for annual compensation totaling $240,000. These agreements
terminate in the year 2001 and are adjusted annually in accordance with the
Consumer Price Index. The Board of Directors agreed on April 23, 1996 to reserve
1,000,000 shares of common stock for distribution to two officers of the
Company. The common stock can be purchased in installment payments with a five
year promissory note with interest at 6% per annum. As of September 30, 1998 the
officers did not purchase these shares.
In September 1997, the two officers agreed to defer 90% of their salaries until
further notice, but not beyond March 31, 1998. As consideration, the Company
granted a total of 3,750,000 shares of common stock and warrants to purchase
3,750,000 shares of the Company's common stock at an exercise price of $.10 per
share. The common shares granted vested during fiscal 1997 and the warrants are
exercisable over a two year period beginning March 31, 1997. The Company
recorded $75,000 in deferred costs for the fair value of the shares granted and
amortized $50,000 in the year ended March 31, 1998. No deferred costs were
recorded for the warrants granted as the fair market value of the underlying
common shares was approximately equal to the exercise price [See Note 10F].
In September 1997, the Company entered into employment agreements with nine
employees holding key positions. The agreements provide for an aggregate of
550,000 shares of common stock with a fair value of $11,000 for past services
and semi-monthly compensation of approximately $14,000. The agreements will
continue for an indefinite period of time.
[E] SALE OF MULTI MEDIA ASSETS - On May 8, 1995, the Company closed a sales
agreement with a Mexican company, Central Video, for $750,000 by allowing credit
to the Company for future duplication services. The general manager of Central
Video is the former President of the Company. The Company received $750,000 of
duplication services and surrendered equipment having a book value of
approximately $630,000. The Company guaranteed Central Video's general manager a
minimum of $2,500,000 a year of production orders for three years and agreed to
pay Central Video's general manager a 3% commission on orders the Company places
with Central Video. The Company satisfied this obligation in fiscal 1996,
however, in 1997, the Company did not fulfill this obligation and was delinquent
in payments to Central Video. The Company settled this contract with Central
Video in September of 1997. The Company agreed to pay Central Video $12,500 a
week until the total obligation of $740,000 is paid. This settlement dissolved
the production contract and all outstanding payable obligation. As of September
30, 1998, the total obligation owed to Central Video was paid in full.
12
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[5] COMMITMENTS [CONTINUED]
[F] TERMINATION OF EMPLOYMENT - On December 21, 1995, an officer and director of
the Company resigned and terminated his employment agreement with the Company as
part of a settlement agreement. Effective January 1, 1996 and ending December
31, 1996, the Company entered into a monthly $10,000 consulting agreement with
this individual. The individual agreed to surrender 30,769 shares of preferred
stock and 10,000 shares of common stock upon execution of the settlement
agreement in consideration for 5% of net profits of the Company for the fiscal
years ended March 31, 1997 and 1998.
[G] FINANCIAL CONSULTANT COMMITMENTS - In June of 1996, the Company engaged
three consultants for a period of two years. The Company will reimburse the
consultants' business expenses not to exceed $750 per month. The financial
consultants received a total of 1,000,000 warrants with an exercise price of
$.25 per share in exchange for services to be rendered. The Company recorded
deferred consulting costs of $50,000 for the fair value of the warrants to
purchase the 1,000,000 shares of common stock and expensed $14,858 and $35,142
for the years ended March 31, 1998 and 1997, respectively. The fair value of the
warrants was determined based upon the fair value of services to be rendered by
the consultant [See Note 13B].
In August of 1997, the Company engaged four consultants for a period of two
years to provide assistance in restructuring and designing the Company's
operations and long-term strategic plan. The consultants received warrants to
purchase an aggregate 2,050,000 shares of the Company's common stock at an
exercise price of $.10 per share. The warrants expire at the end of the two year
consulting period. The Company recorded deferred consulting costs of $100,000
for the fair value of the warrants and expensed approximately $31,000 for the
year ended March 31, 1998. The fair value of the warrants was determined based
upon the fair value of services to be rendered by the consultant [See Note 13F].
In addition, the Company also issued 250,000 shares of stock to one of the
consultants in consideration of entering into a two year consulting agreement
and recorded $5,000 as a signing bonus [See Note 10H].
[H] TRANSFER OF CUSTOM DUPLICATION BUSINESS - On April 13, 1995, the Board of
Directors approved the transfer of its custom duplication business. Pursuant to
this transaction, the Company's former President surrendered his employment
contract and returned 146,654 shares of the Company's preferred stock back to
the Company as treasury stock. Equipment with a carrying value of approximately
$170,000 was transferred from the Company and the Company's former President
assumed all remaining obligations on these assets of approximately $75,000. The
Company agreed to a non competition agreement with this new custom duplication
venture by the Company's former President.
[I] JOINT VENTURE AGREEMENT - In October 1996, the Company entered into a joint
venture agreement with an unrelated party whereby the parties distribute each
others' catalogues of products and share in the profits of any such distribution
equally. The agreement expired in October 1997.
13
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[5] COMMITMENTS [CONTINUED]
In connection with the joint venture agreement, the Company loaned $18,000 at a
6% interest rate. The loan receivable was due in January 1997 and remains unpaid
as of September 30, 1998. This amount is included in other receivables on the
balance sheet. The joint venture partner has never performed on the agreement.
In January of 1998, the Company commenced collection procedures to collect the
outstanding obligation owed to the Company.
[6] LEASE COMMITMENTS
[A] OPERATING LEASES - The Company leases various office and storage
facilities, automobiles and equipment under operating leases expiring between
1998 and 2002.
The Company leases sales office space for $1,950 monthly which expires
in October 2001. It also leases for $9,274 per month office and warehousing
space which expires March 2001. [See Note 19E]
The following schedules shows the composition of total rental expense for all
operating leases except those with terms of a month or less that were not
renewed:
<TABLE>
<CAPTION>
YEARS ENDED
MARCH 31,
1998 1997
------- -------
<S> <C> <C>
Minimum Rentals $ 200,005 $ 151,983
Less: Sublease Rentals 15,000 15,000
-------------- --------------
TOTALS $ 215,005 $ 136,983
------ -------------- --------------
-------------- --------------
</TABLE>
The following is the approximate aggregate future minimum rentals for the
next five years for operating leases:
<TABLE>
<CAPTION>
MARCH 31,
---------
<S> <C>
1999 $ 222,813
2000 221,227
2001 142,702
2002 11,700
2003 --
--------------
TOTAL FUTURE MINIMUM LEASE PAYMENTS $ 598,442
----------------------------------- --------------
--------------
</TABLE>
The operating leases also provide for cost escalation payments.
[B] The Company leases office space in Freehold, New Jersey for $1,950 per
month. This lease expires on October 31, 2001.
14
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[7] DEBT OBLIGATIONS
Notes payable consist of the following:
<TABLE>
<CAPTION>
September 30, 1998
---------------------------------------------------------------------------------------
TYPE OF LOAN AMOUNT CURRENT LONG-TERM RATE DUE DATE
- ------------ ---------- ---------- --------------- ------- -----------------------------
<S> <C> <C> <C> <C> <C>
Installment Loan (B) -- -- -- 10% November 14, 1999
Notes Payable (C) -- -- -- 8% September 30, 1998
Lines of Credit (A) $1,384,433 $1,384,433 -- Various Revolving Line of Credit
Convertible Debenture (D) 851,448 851,448 -- 10% October 31, 2000
Acquired Debt 40,000 40,000 -- Demand
Loan Payable (E) -- -- -- 10% September 30, 1998
Loan Payable (F) 2,675,029 2,675,029 0% Demand
--------- --------- ----------------
TOTALS $4,950,910 $4,950,910 $ --
- ------ ---------- ---------- ----------------
---------- ---------- ----------------
</TABLE>
[A] LINES OF CREDIT - On August 30, 1996, the Company established a line of
credit up to $2,500,000, whereby, $2,000,000 was backed by pledged receivables
and inventory and $500,000 was guaranteed by the Company's President. Interest
was at a prime rate plus 3%. Interest expense from April 1, 1997 through
December 31, 1997 was approximately $148,500. In December 1997, the Company
repaid $469,221 on this line of credit and engaged another financial institution
for a $2,500,000 financing arrangement. This arrangement is also backed by
pledged receivables and inventory. Cost is 1.5% discounted from pledged invoices
for every 30 days for the accounts receivable portion of the line of credit. The
portion of the line of credit backed by inventory is determined by the lesser of
$800,000, 25% of the clients finished toy inventory or 55% of the clients
finished videotape inventory. Interest is charged at 16.l8% per annum on this
portion of the debt. This was formalized with the Company in June of 1998.
Interest expense for the six months ended September 30, 1998 was approximately
$192,533.
[B] INSTALLMENT LOAN - In March 1993 a loan was renegotiated for the sum of
$292,058 with principal payments of $5,000 per month with an interest rate of
10% per annum due November 14, 1999. This note was paid in full on July 15,1998
for approximately $60,000. As a result, the Company recorded forgiveness of debt
of approximately $66,000 in June 1998.
[C] NOTE PAYABLE FOR EQUIPMENT - On May 8, 1995, the Company closed a sales
agreement with a Mexican Company, for $750,000 by allowing credit to the Company
for duplication services and received $750,000 of duplication services in
exchange for equipment having a book value of approximately $630,000 [See Note
5E]. The Company classified the outstanding obligation of $87,859 at June 30,
1998 as notes payable. This note was repaid in weekly installments of $12,500
with the final payment made in September of 1998. Interest expense of
approximately $5,500 was recorded for the six months ended September 30, 1998.
[D] CONVERTIBLE DEBENTURES PAYABLE - During the quarter ended June 30, 1996, the
Company issued convertible debentures of $1,257,988 with 10% interest per annum
and a 7% commission. The principle amount is convertible in whole or in part
into shares of the common stock of the
15
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[7] DEBT OBLIGATIONS [CONTINUED]
Company at a conversion price equal to 65% of the average closing bid price for
the common stock for five trading days immediately prior to the conversion. In
no event shall the conversion price be less than $.20 per share or more than
$.75 per share. In conjunction with the debentures, the Company granted
1,000,000 warrants exercisable at $.25 per share to two consultants [See Note
13C]. Warrants for 46,000 shares were exercised for $11,500 during the year
ended March 31, 1997 [See Note 10E]. In June of 1998, a convertible debenture
holder converted a note payable with a balance of $91,750 into 2,823,077 shares
of the Company's common stock [See Note 7D].
The Company recorded a financing expense of $25,000 for the fair value of the
warrants granted. The fair value of the warrants was determined based upon the
fair value of services received by the Company in May and June of 1996.
As of March 31, 1997, convertible debentures of $290,000 were converted into
1,450,000 shares of the Company's common stock by several off shore companies
under Regulation S and $967,988 of convertible promissory notes payable were
outstanding and in default by the Company. Interest expense of $97,000 and
$24,702 was recorded for the years ended March 31, 1998 and 1997 [See Note 10E].
Subsequent to September 30, 1997, the Company negotiated a one year extension
agreement and agreed to add 15% to the note as a deferred financing cost of
$110,724.
During fiscal March of 1998, convertible debentures of $229,848 were converted
into 6,037,668 shares of the Company's common stock [See Notes 10E and 19C]. In
June of 1998, a convertible debenture holder converted a note payable with a
balance of $91,750 into 2,823,077 shares of the Company's common stock [See Note
7D]. This brought the total conversion of $611,598 of debentures into10,310,745
shares as of September 30, 1998. The convertible notes are secured by the
Company's entitlement to any net cash proceeds derived from its interest in ATRE
property [See Note 4B].
[E] LOANS PAYABLE - In October 1997, the Company borrowed $360,000 from an
unaffiliated entity with interest at 10% per year. At June 30, 1998, $91,249 was
outstanding on this obligation. This note was repaid in full in September of
1998 by weekly payments of $7,500. Interest expense for the six months ended
September 30, 1998 was $4,713.
[F] LOAN PAYABLE - In the quarter ended June 30, 1998, the Company borrowed a
combined total of $2,721,860 from GJ Products Corporation in the amount of
$1,912,360 and from ATRE for $809,500 to finance certain purchases for the
Company's toy inventory. Both notes are non-interest bearing loans and are due
upon demand. In six month period ended September 30 1998, the Company applied
$37,431 as payment against the GJ Products Corporation's note for a discount
received by them for the Company's toy inventory purchases. At September 30,
1998 $1,865,529 and $809,500 were outstanding on these obligations to GJ
Products Corporation and ATRE, respectively.
16
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[8] CAPITAL LEASES
The Company is the lessee of equipment under capital leases expiring in various
years through 2002. The assets and liabilities under capital leases are recorded
at the lower of the present value of the minimum lease payments or the fair
value of the assets. The assets are depreciated over the lower of their related
lease terms or their estimated productive lives. Depreciation of assets under
capital leases is included in depreciation expense for 1997 and 1998.
Following is a summary of property held under capital leases as of March 31,
1998:
<TABLE>
<CAPTION>
<S> <C>
Furniture, Fixtures and Equipment $ 60,150
Less: Accumulated Depreciation 41,831
--------------
TOTALS $ 18,319
--------------
--------------
</TABLE>
Minimum future lease payments under capital leases as of March 31,1998 for each
of the next five years and in the aggregate are:
<TABLE>
<CAPTION>
Year Ending March 31,
<S> <C>
1999 $ 3,875
2000 3,598
2001 3,837
2002 3,044
2003 --
----------
Total Minimum Lease Payments 14,354
Less: Amount Representing Interest 1,876
----------
PRESENT VALUE OF NET MINIMUM LEASE PAYMENTS $ 12,478
------------------------------------------- --------------
--------------
</TABLE>
[9] INCOME TAXES
The Company has net operating loss carryforwards of approximately $7,763,000
which expire through the year 2012. As a result of these carryforwards, the
Company has a deferred tax asset of approximately $2,701,800, which has been
offset by a valuation allowance of $2,701,800 resulting in a deferred asset of
$-0-. Future tax benefits related to this loss have not been recognized because
its realization is not assured. No current or deferred federal or state income
taxes have been provided for.
As of March 31, 1998, the approximate amount of the net operating loss income
tax carryforwards and their expiration dates are as follows:
17
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[9] INCOME TAXES [CONTINUED]
<TABLE>
<CAPTION>
EXPIRATION
IN YEARS ENDING NET OPERATING LOSS
MARCH 31, CARRYFORWARDS
--------------- ------------------
<S> <C>
2007 $ 1,317,000
2008 2,693,000
2009 2,015,000
2010 288,000
2011 1,300,000
2012 150,000
--------------
TOTAL $ 7,763,000
----- --------------
--------------
</TABLE>
[10] CAPITAL STOCK
[A] STOCK SUBSCRIPTION RECEIVABLE - On April 23, 1996, the Board of Directors
agreed to cancel the existing $86,636 stock subscription receivable from
officers of the Company. The Company accepted services performed by the officers
of the Company in lieu of cash in collection of the stock subscription and,
therefore, recorded the $86,636 as compensation expense for the year ended March
31, 1997.
[B] AUTHORIZED SHARES - The Board of Directors agreed on April 23, 1996 to
increase its authorized shares to 100,000,000 shares of common stock and
5,000,000 shares of preferred stock, which was approved at the August 23, 1996
annual shareholders meeting.
[C] PREFERRED STOCK - The preferred stock has no (i) dividend rights, (ii)
sinking fund provisions, (iii) rights of redemption, (iv) classification
provisions for voting, (vi) preemptive rights, (vi) liability to further
calls or to assessments by the Company, or (vii) any provision discriminating
against any existing or prospective holder. Holders of shares of preferred
stock are not entitled to any dividend preference. In the event of
liquidation, holders of shares of preferred stock shall be entitled to a
preference of $.01 per share, and any other remaining proceeds of liquidation
shall be distributed shares and shares alike to holders of all capital stock.
The issued and outstanding preferred stock are restricted and have not been
registered.
[D] SHARES ISSUED FOR BDC ACQUISITION - In May of 1997, the Company entered into
an agreement and plan of merger between BDC Acquisition, Inc., a newly formed
wholly-owned subsidiary of the Company, and Beyond Design Corporation ["BDC"].
The Company's subsidiary has acquired all of the issued and outstanding stock of
BDC for the issuance of an aggregate of 2,427,273 shares of the Company's common
stock and the assumption of certain outstanding obligations of BDC. The book
value of the net assets acquired approximates the fair value of the shares
issued in connection with the acquisition. This acquisition was deemed
immaterial for accounting purposes.
18
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[10] CAPITAL STOCK [CONTINUED]
[E] CONVERSION OF DEBENTURES PAYABLE - During the quarter ended June 30, 1996,
the Company issued convertible debentures of $1,257,988 with 10% interest per
annum and a 7% commission. The principal amount is convertible in whole or in
part into shares of the common stock of the Company at a conversion formula
based upon average closing bid prices. In conjunction with the debentures, the
Company granted 1,000,000 warrants exercisable at $.25 per share to two
consultants. Warrants for 46,000 shares were exercised for $11,500 during the
year ended March 31, 1997 [See Notes 7D and 13C]. In June of 1998, a convertible
debenture holder converted a note payable with a balance of $91,750 into
2,823,077 shares of the Company's common stock [See Note 7D].
The Company recorded a financing cost of $25,000 for the fair value of the
warrants granted. The fair value of the warrants was determined based upon the
fair value of services received by the Company in May and June of 1996.
As of March 31, 1997, convertible debentures of $290,000 were converted into
1,450,000 shares of the Company's common stock by several off shore companies
under Regulation S and $967,988 of convertible promissory notes payable were
outstanding and in default by the Company. Interest expense of $97,000 and
$24,702 was recorded for the years ended March 31, 1998 and 1997 [See Note 7D].
Subsequent to September 30, 1997, the Company negotiated a one year extension
agreement and agreed to add 15% to the note as a deferred financing cost of
approximately $110,000.
During fiscal March of 1998, convertible debentures of $229,848 were converted
into 6,037,668 shares of the Company's common stock. For the five months ended
March 31, 1998, the Company amortized $46,134 as a non-cash financing cost,
which is classified as interest expense [See Notes 7D and 19C].
[F] EMPLOYMENT AGREEMENTS - In September 1997, two officers agreed to defer 90%
of their salaries until further notice, but not beyond March 31, 1998. As
consideration, the Company granted a total of 3,750,000 shares of common stock
and warrants to purchase 3,750,000 shares of the Company's common stock at an
exercise price of $.10 per share. The common shares granted vested during fiscal
1997 and the warrants are exercisable over a two year period beginning March 31,
1997. The Company recorded $75,000 in deferred costs for the fair value of the
shares granted and amortized $50,000 in the year ended March 31, 1998. No
deferred costs were recorded for the warrants granted as the fair market value
of the underlying common shares was approximately equal to the exercise price
[See Note 5D].
In September 1997, the Company entered into employment agreements with nine
employees holding key positions. The agreements provide for an aggregate of
550,000 shares of common stock with a fair value of $11,000 for past services
and semi-monthly compensation of approximately $14,000. The agreements will
continue for an indefinite period of time.
19
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[10] CAPITAL STOCK [CONTINUED]
[G] CONSULTING AGREEMENT - FISCAL 1997 - On April 23, 1996, the Company engaged
an entity to arrange either debt or equity financing for the Company and agreed
to grant a total of 1,000,000 options exercisable within three years of grant at
$.10 per share. The Company recorded a financing cost of $25,000 in June of 1996
for the fair value of the options granted. The fair value of the options was
determined based upon the fair value of services received by the Company in May
and June of 1996. These options were exercised in June of 1996 for a total of
1,000,000 shares of common stock as a result of consulting services performed in
1996 by the consultant [See Note 13D].
[H] FINANCIAL CONSULTANTS - The Company issued 250,000 shares of stock to one of
its consultants in consideration of entering into a two year consulting
agreement [See Note 5G].
[J] STOCK IN LIEU OF COMMISSIONS - On March 11, 1998, the Company issued 347,368
shares of common stock to a salesman in lieu of commissions owed of $66,000.
[11] EARNINGS PER SHARE
Earnings per share is based on the weighted average number of common shares
outstanding as restated to include the number of shares issued in the business
combination with TAV reflecting conversion for a preferred share of stock into
1.95 shares of common stock. The effect of warrants and options is included when
dilutive. Exercise of the options and warrants could potentially dilute basic
EPS in the future.
[12] MAJOR SUPPLIER
For the six months ended September 30, 1998, the Company had purchases from two
suppliers that amount to approximately $184,123 or 55% of net purchases.
Loss of these suppliers would not significantly adversely affect the company
because sufficient replacement vendors exist in the open market.
[13] STOCK OPTIONS AND WARRANTS
[A] 1988 STOCK OPTION PLAN APPROVED - On October 12, 1988, the Company's
directors and stockholders approved the Company's 1988 Stock Option Plan [the
"Option Plan"] authorizing the granting of incentive options and non-qualified
options. The incentive options are intended to qualify under Section 422 of the
Internal Revenue Code of 1986, as amended. Pursuant to the Option Plan, options
to purchase up to 10,000 shares of common stock may be granted to officers,
directors and key employees of the Company. The Stock Option Committee,
consisting of Messrs. Lu and Schillen, is responsible for determining the
individuals who will be granted options, the number of shares to be subject to
each option, the option price per share, and the exercise period of each option.
The option price will not be less than the fair market value of the Company's
common
20
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[13] STOCK OPTIONS AND WARRANTS [CONTINUED]
stock on the date the option is granted. Options may be exercised by
payment of cash. No option will have a term in excess of ten years.
[B] CONSULTING AGREEMENT - FISCAL 1997 - In June 1996, the Company issued
1,000,000 common stock warrants at an exercise price of $.25 per share as part
of a consulting agreement entered into, which term ends June 1998. As of March
31, 1997, 925,000 of those warrants are vested. Deferred compensation of $50,000
resulting from this transaction was recorded at the fair market value of the
services rendered [See Note 5G].
[C] CONVERTIBLE DEBENTURES - FISCAL 1997 AND 1998 - In April 1996, in connection
with the convertible debentures, the Company entered into two separate
consulting agreements. As per the terms of both contracts, the Company issued
1,000,000 common stock warrants [500,000 warrants per contract] at an exercise
price of $.25 per share of which 46,000 shares were issued as a result of the
exercise of warrants during the year ended March 31, 1997 [See Notes 7D, 10E and
19C].
[D] CONSULTING AGREEMENT - FISCAL 1997 - On April 23, 1996, the Company engaged
an entity to arrange either debt or equity financing for the Company and agreed
to grant a total of 1,000,000 options exercisable within three years of grant at
$.10 per share. The Company recorded a financing cost of $25,000 in June of 1996
for the fair value of the options granted. The fair value of the options was
determined based upon the fair value of services received by the Company in May
and June of 1996.
These options were exercised in June of 1996 for a total of 1,000,000 shares of
common stock as a result of consulting services performed in 1996 by the
consultant [See Note 10G].
[E] FISCAL 1997 SUMMARY - During fiscal year ended March 31, 1997, the Company
issued 3,000,000 stock warrants to nonemployees at exercise prices below market
prices at the date of grant, ranging from $.10 to $.25, and having a weighted
average exercise price of $.20. Of these options, 1,000,000 options have a 2
year vesting period and 2,000,000 options vested at date of grant. The total
cost of issuing these stock options to nonemployees during 1997 was
approximately $100,000. The entire amount is being amortized over the
aforementioned respective vesting periods, resulting in a $85,142 and $14,858
charge to operations for the years ended March 31, 1998 and 1997. The weighted
average fair value of stock options granted to consultants during 1997 was
estimated at $.04 using the fair value of services at date of grant.
[F] CONSULTING AGREEMENT - FISCAL 1998 - In August 1997, the Company issued
2,050,000 common stock warrants at an exercise price of $.10 per share as part
of a consulting agreement entered into, whose term ends August 1999. Deferred
consulting costs of $100,000 resulting from this transaction was recorded at the
fair market value of the services rendered and approximately $31,000 was
expensed for the year ended March 31, 1998 [See Note 5G]. In July of 1998, the
Company raised $20,000 from the exercise of warrants for 200,000 shares of the
Company's common stock.
21
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[13] STOCK OPTIONS AND WARRANTS [CONTINUED]
[G] ADDITIONAL OPTIONS ISSUED - In August of 1998, the Company issued 2,000,000
options to the Chief Executive Officer at an exercise price of $.10 per share
for his personal guarantee on the Company's loan agreements and loans made to
the Company.
[14] LITIGATION
The Company has in the past been named as defendant and co-defendant in various
legal actions filed against the Company in the normal course of business. All
past litigation have been resolved without material adverse impact on the
Company. For the period ended September 30, 1998, there are no pending legal
actions filed against the Company
[15] GOING CONCERN
The Company's financial statements are prepared in conformity with generally
accepted accounting principles, which contemplates the realization of assets and
settlements of liabilities in the normal course of business and continuation of
the Company as a going concern. The Company has incurred net losses of
$1,505,442 and $1,303,546 for the years ended March 31, 1998 and 1997,
respectively, and has a working capital deficit at March 31, 1998 of $2,486,662.
The Company has also been experiencing difficulties in paying its vendors on a
timely basis. These factors create uncertainty whether the Company can continue
as a going concern. The Company's plans to mitigate the effects of the
uncertainties are (i) to collect the sales proceeds from parcels of property
owned by ATRE [50% owned by the Co.] located in Vancouver, WA, (ii) to continue
to acquire new licensed titles to improve sales and profit margin , (iii) to
create new products with better gross profits, (iv) to continue to negotiate
with several reliable investors to provide the Company with debt and equity
financing for working capital purposes, (v) to convert debt to equity and (vi)
to continue to negotiate with major vendors for discounts.
Management believes that these plans can be effectively implemented in the next
twelve months. The Company will continue to seek additional financing from
private sources to supplement its cash needs for the next twelve months during
the implementation of these plans to achieve profitability. The Company's
ability to continue as a going concern is dependent on the implementation and
success of these plans. The financial statements do not include any adjustments
in the event the Company is unable to continue as a going concern. There can be
no assurance that management's plans to reduce operating losses or obtain
additional financing to fund operations will be successful. The financial
statements do not include any adjustments relating to the recoverability and
classification of recorded assets, or the amounts and classification of
liabilities that might be necessary in the event the Company cannot continue in
existence.
[16] MAJOR CUSTOMERS
For the six months ended September 30, 1998, the Company had net sales to two
customers that amounted to approximately $444,420 or 48%.
22
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[17] NEW AUTHORITATIVE PRONOUNCEMENTS
The FASB has issued SFAS No. 130, "Reporting Comprehensive Income." SFAS
No. 130 is effective for fiscal years beginning after December 15, 1997.
Reclassification of financial statements for earlier periods provided for
comparative purposes is required. The Company adopted SFAS no. 130 as of
April 1, 1998. SFAS No. 130 does not have a material impact on the Company.
The FASB has issued SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information." SFAS No. 131 changes how operating
segments are reported in annual financial statements and requires the
reporting of selected information about operating segments in interim
financial reports issued to shareholders. SFAS No. 131 is effective for
periods beginning after December 15, 1997, and comparative information
for earlier years is to be restated. SFAS No. 131 need not be applied to
interim financial statements in the initial year of its application.
SFAS No. 131 could have an impact on the Company.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts and for hedging activities. SFAS No.
133 requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those
instruments at fair value. The accounting for changes in the fair value of a
derivative depends on the intended use of the derivative and how it its
designated, for example, gain or losses related to changes in the fair value
of a derivative not designated as a hedging instrument is recognized in
earnings in the period of the change, while certain types of hedges may be
initially reported as a component of other comprehensive income
[outside earnings] until the consummation of the underlying transaction.
SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. Initial application of SFAS No. 133
should be as of the beginning of a fiscal quarter; on that date,
hedging relationships must be designated anew and documented pursuant
to the provisions of SFAS No. 133. Earlier application of all of the
provisions of SFAS No. 133 is encouraged, but it is permitted only as of
the beginning of any fiscal quarter. SFAS No. 133 is not to be applied
retroactively to financial statements of prior periods. The Company
does not currently have any derivative instruments and is not currently
engaged in any hedging activities.
23
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[18] FINANCIAL INSTRUMENTS
The following table summarizes the carrying amount and estimated fair value
of the company's significant financial instruments all of which are held for
nontrading purposes:
<TABLE>
<CAPTION>
MARCH 31, 1998
------------------------------
CARRYING ESTIMATED
AMOUNT FAIR VALUE
------------ -----------
<S> <C> <C>
Other Receivable $ 76,181 $ 76,181
Long-Term Debt $ 9,602 $ 9,602
</TABLE>
In assessing the fair value of other receivables, it was estimated that the
carrying amount approximated fair value because of the interest rate and risk
factor. The fair value of long-term debt is based on current rates at which the
Company could borrow funds with similar remaining maturities.
[19] SUBSEQUENT EVENTS
[A] NEW SUBSIDIARY - On July 15,1998, the Company incorporated Galaxynet
International, Inc. ["Galaxy Net"] in the State of Delaware, as a majority-owned
subsidiary of the Company. GalaxyNet is in the business of developing and
selling internet gaming software and intends to offer its software to internet
gaming companies and provide internet gaming web sites to solicit gambling
wagers from primarily, Asian players. The Company also issued 4,000,000 options
exercisable at $.10 per share to an investor and 6,000,000 options to the Chief
Executive Officer exercisable at $.10 in connection with this project. In
connection with the cancellation of the proposed financing [19B] the Company
cancelled this project and also cancelled the issuance of such options in
November 1998.
[B] CANCELLATION OF PROPOSED FINANCING - On July 17, 1998, the Company, along
with GalaxyNet, entered into a memorandum of understanding regarding the raising
of capital in a private offering to raise gross proceeds in the aggregate of
between and $3,000,000 and $10,000,000 with an enterprise who will be paid the
sum of 15% of the aggregate proceeds and received finders options for up to
3,750,000 shares of common stock at exercise prices of between $.10 and $.20 per
share. The private offering period ended September 30, 1998, and was extended
until October 31, 1998. The private offering resulted in raising funding
proceeds of only $250,000. The Company subsequently refunded the $250,000 to the
investor and cancelled the related finders options in November, 1998.
[C] CONVERTIBLE DEBENTURES - On November 2, 1998, convertible debentures with a
balance of $848,861 were reinvested into a new note for approximately $925,000
for a new two year term expiring October 31, 2000 with interest of 10%. The
repayment term is a weekly amount of $6,250 in 1998 and $12,500 in the years
1999 and 2000. In addition, there is an acceleration clause of repayments for
certain events and a 5% late charge for any delinquent payments. The notes
contain
24
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS [UNAUDITED]
[19] SUBSEQUENT EVENTS [CONTINUED]
an option to convert the principal and interest balance into the common stock of
the Company subject to certain pricing calculations. Collateral security
includes all the assets of the Company and a personal collection guarantee as
additional security to holder after subordination to primary lender [See Notes
7D and 10E].
[D] ADDITIONAL STOCK ISSUANCES - On October 24, 1998, the Company issued
1,499,523 shares of common stock to the Company's president pursuant to a
settlement agreement.
[E] LEASE - Beginning in October 1998, the Company entered into a four-year
lease expiring in June 2002, for use as executive offices and manufacturing and
warehouse facilities for $21,500 monthly. In addition, the Company has entered
into a sublease with a subtenant beginning January 1, 1999 which requires the
subtenant to pay approximately $9,494 per month from March 1, 1999 through
February 2000, and $9,936 per month from March 1, 2000 through March 31, 2001,
for an existing lease which requires the Company to make monthly payments of
$9,274.
25
<PAGE>
ITEM 2: MANAGEMENT DISCUSSION AND ANALYSIS AND PLAN OF OPERATION.
SIX MONTHS ENDED SEPTEMBER 30, 1998 COMPARED WITH THE SIX MONTHS ENDED SEPTEMBER
30, 1997:
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH THE INFORMATION
CONTAINED IN THE FINANCIAL STATEMENTS OF THE COMPANY AND THE NOTES THERETO
APPEARING ELSEWHERE HEREIN AND IN CONJUNCTION WITH THE MANAGEMENT'S DISCUSSION
AND ANALYSIS SET FORTH IN THE COMPANY'S FORM 10-KSB FOR THE YEAR ENDED MARCH 31,
1998 AND FORM 10-Q FOR THE PERIOD ENDED JUNE 30, 1997.
THIS REPORT CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS AND INFORMATION RELATING
TO THE COMPANY THAT ARE BASED ON THE BELIEFS OF THE COMPANY OR MANAGEMENT AS
WELL AS ASSUMPTIONS MADE BY AND INFORMATION CURRENTLY AVAILABLE TO THE COMPANY
OR MANAGEMENT. WHEN USED IN THIS DOCUMENT, THE WORDS "ANTICIPATE," "BELIEVE,"
"ESTIMATE," "EXPECT" AND "INTEND" AND SIMILAR EXPRESSIONS, AS THEY RELATE TO THE
COMPANY OR ITS MANAGEMENT, ARE INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS.
SUCH STATEMENTS REFLECT THE CURRENT VIEW OF THE COMPANY REGARDING FUTURE EVENTS
AND ARE SUBJECT TO CERTAIN RISKS, UNCERTAINTIES AND ASSUMPTIONS, INCLUDING THE
RISKS AND UNCERTAINTIES NOTED. SHOULD ONE OR MORE OF THESE RISKS OR
UNCERTAINTIES MATERIALIZE, OR SHOULD UNDERLYING ASSUMPTIONS PROVE INCORRECT,
ACTUAL RESULTS MAY VARY MATERIALLY FROM THOSE DESCRIBED HEREIN AS ANTICIPATED,
BELIEVED, ESTIMATED, EXPECTED OR INTENDED. IN EACH INSTANCE, FORWARD-LOOKING
INFORMATION SHOULD BE CONSIDERED IN LIGHT OF THE ACCOMPANYING MEANINGFUL
CAUTIONARY STATEMENTS HEREIN.
RESULTS OF OPERATIONS
The Company's net loss for the six months ended September 30, 1998 was
approximately $592,000 as compared to a net income of approximately 201,000 for
the same period last year. The primary reason for the net loss was the Company's
operating loss of approximately $490,000.
The Company's operating loss for the six months ended September 30, 1998 was
$489,862 as compared to an operating profit of $141,562 for the same period last
year. The Company's operating loss arose primarily from lower sales resulting in
reduced gross profit, offset by a reduction in operating expenses of
approximately $210,000.
The Company's sales for the six months ended September 30, 1998 and 1997, were
$2,077,307 and $4,565,683 respectively. The Company's sales decreased by
approximately $2,488,000 from the same period a year earlier primarily the
result of lower video product sales. The lower video product sales for the
period ended September 30, 1998, was primarily result of lower purchases from
three of the Company's major retailers. One of the Company's major retailers was
sold, the second retailer experienced financial difficulties and the third opted
to purchase videos from the Company's competitors. The Company's products are
generally seasonal resulting in increased sales starting in the third quarter of
the fiscal year. The Company expects the short fall in the first fiscal half of
this year to be recovered during third and fourth quarter of fiscal year ending
March 31, 1999.
26
<PAGE>
Cost of sales for the six months ended September 30, 1998 and 1997 were
$1,407,810 and $3,054,536 or 68% and 67% of sales, respectively.
Gross profit for the six months ended September 30, 1998 and 1997 were
$669,497 and $1,511,147, or 32% and 33% of sales, respectively. The decrease
in gross profit was primarily due to a decrease in total volume of sales.
Operating expenses for the six months ended September 30, 1998 and 1997 were
$1,159,359 and $1,369,585, respectively. This decrease in operating expenses
of approximately $216,000 was primarily the result of lower levels in legal
and licensing expense.
Interest expense for six months ended September 30, 1998 and 1997 was
$182,250 and $139,927, respectively. The increase in interest expense over
the similar period a year earlier of approximately $42,000 was the result of
higher levels of borrowing. As of September 30, 1998, the outstanding debt of
the Company was approximately $4,951,000, primarily all of which is
classified as current.
The Company's auditors issued a going concern report for the year ended March
31, 1998. There can be no assurance that management's plans to reduce
operating losses will continue or the Company's efforts to obtain additional
financing will be successful.
LIQUIDITY AND CAPITAL RESOURCES
The Company's working capital [deficit] at September 30, 1998 was $(2,517,401)
as compared with a working capital [deficit] of $(2,537,031) at March 31, 1998.
This decrease in the working capital [deficit] of approximately $20,000 is
primarily the result of the Company's non-cash adjustments to the net income.
OPERATIONS
For the six months ended September 30, 1998, cash utilized for operations was
$2,717,397 as compared to $1,038,402 of cash generated from operations for the
six months ended September 30, 1997. The Company borrowed in June of 1998,
approximately $2,700,000 in short term loans from two companies and the
borrowings were used primarily to reduce the Company's accounts payable balance
[See Note 7F]. The Company intends to utilize future debt or equity financing or
debt to equity conversions to help satisfy past due obligations and to pay down
its debt obligations.
The Company has also been experiencing difficulties in paying its vendors on a
timely basis. These factors create uncertainty whether the Company can continue
as a going concern. The Company's plans to mitigate the effects of the
uncertainties are (i) to collect the sales proceeds from parcels of property
owned by ATRE (50% owned by the Company) located in Vancouver, Washington, (ii)
to continue to acquire new licensed titles to improve sales and profit margin,
(iii) to create new products with better gross profits, (iv) to continue to
negotiate with several reliable investors to provide the Company with debt and
equity financing for working capital purposes, (v) to convert debt to equity and
(vi) to continue to negotiate with major vendors for discounts.
27
<PAGE>
In April of 1998, the Company entered into an agreement with S4C Corporation for
the exclusive rights to distribute a home video tape through December 31, 2003
with total advance payments aggregating approximately $100,000 and additional
royalties due as a percentage of wholesale prices.
Beginning in October 1998, the Company entered into a four-year lease expiring
in June 2002, for use as executive offices and manufacturing and warehouse
facilities for $21,500 monthly. In addition, the Company has entered into a
sublease with a subtenant beginning January 1, 1999 which requires the subtenant
to pay approximately $9,494 per month from March 1, 1999 through February 2000,
and $9,936 per month from March 1, 2000 through March 31, 2001, for an existing
lease which requires the Company to make monthly payments of $9,274.
INVESTING
For the six months ended September 30, 1998 and 1997, investments in masters and
artwork were $42,491and $70,554, respectively. Management continues to seek to
acquire new titles to enhance its product lines.
American Top Real Estate, Inc. ("ATRE") was formed in March 1989 for the
purposes of acquiring, owning and holding real property for commercial
development. ATRE does not engage in any other business operations. The Company
paid $50,000 for a 50% interest in ATRE. The Company's arrangement with its
partners in ATRE requires that all parties contribute capital or loans pro rata
according to their interests whenever required by ATRE for land acquisition,
principal or interest payments, property taxes or other expenses.
Upon sale or development of land, proceeds are used to repay all related loans
and other obligations, with the remaining balance distributed among the
shareholders of ATRE pro rata based on their interests. None of the other
investors in ATRE are otherwise associated or affiliated with the Company, nor
are any of ATRE's co-investors in its real estate holdings associated or
affiliated with the Company. ATRE has interests in two real estate parcels.
Parcel 1 consists of approximately 20 undeveloped acres purchased in two
transactions, in 1989 and 1997. ATRE has a 70% interest in Parcel 1, located in
Clark County, Washington. The total cost of Parcel 1, including financing
expenses and taxes, was approximately $2,300,000 through 1997.
Parcel 2 consists of 5.5 acres of undeveloped property, also in Clark County,
Washington. ATRE's interest in Parcel 2 is 25%. Parcel 2 was purchased in
1989 for $717,000. Approximately 2.5 acres of Parcel 2 were sold in 1996. The
Company received net proceeds of $121,600 from ATRE during fiscal 1997
relating to Parcel 2 sales. Approximately 3 acres remain unsold as of the
date of this report.
During the year ended March 31, 1998, ATRE sold approximately 11 acres. The
Company advanced an additional $80,320 to ATRE and received $220,600 from the
proceeds of the parcel of 10 acres as repayment of the advances to ATRE in
fiscal 1998. The Company has subsequently
28
<PAGE>
received approximately $400,000 from ATRE during the period April 1, 1998
through August of 1998 and anticipates another $100,000 by March 31, 1999.
At November 30, 1998, ATRE has no binding sales contracts for the remaining
parcels of real estate owned by ATRE as these parcels of land continue to be
developed for commercial use. Contracts that were pending have not closed due to
possible changes in interest rates or possible overall market conditions. In
addition, the Company was advised by ATRE that proceeds realized by ATRE during
fiscal 1998 were reinvested into other parcels to improve the ability to sell
the remaining parcels. In December of 1998, the Company received from a real
estate development specialist an aggregate approximate value of $5,200,000 for
the remaining ATRE parcels. Although the Company believes that final sales
contracts will be able to be consummated, at this time it is not possible to
predict with any certainty when the closing of such sales contracts of
commercial real estate may occur or whether the proceeds expected by the Company
for their share in this real estate could be significantly less than
anticipated. Therefore, the ultimate realizable value of the receivable for
advances from ATRE could be substantially less than the preadjusted carrying
value of $1,600,000. The Company setup a valuation allowance in the quarter
ended March 31, 1998, of $1,117,788 and accordingly, charged operations for that
amount so that the amount due from ATRE at March 31, 1998 is presented at the
amount of the 1998 subsequent receipts of approximately $500,000. Based upon the
above circumstances the likelihood is that $1,117,788 from future proceeds from
the sale of the ATRE parcels will not be realized by the Company with any
certainty. At September 30, 1998 the amount due from ATRE was $76,181.
FINANCING
On August 30, 1996, the Company established a line of credit up to $2,500,000,
whereby, $2,000,000 was backed by pledged receivables and inventory and $500,000
was guaranteed by the Company's President. Interest was at a prime rate plus 3%.
Interest expense from April 1, 1997 through December 31, 1997 was approximately
$148,500. In December 1997, the Company repaid $469,221 on this line of credit
and engaged another financial institution for a $2,500,000 line of credit. This
line of credit is also backed by pledged receivables and inventory. Cost is 1.5%
discounted from pledged invoices for every 30 days for the accounts receivable
portion of the line of credit. Interest expense for the six months ended
September 30, 1998 was approximately $192,533.
In March 1993 a loan was renegotiated for the sum of $292,058 with principal
payments of $5,000 per month with an interest rate of 10% per annum due November
14, 1999. This note was paid in full on July 15, 1998 for approximately $60,000.
As a result, the Company recorded forgiveness of debt of approximately $66,000
in July 1998.
On May 8, 1995, the Company closed a sales agreement with a Mexican Company, for
$750,000 by allowing credit to the Company for duplication services and received
$750,000 of duplication services in exchange for equipment having a book value
of approximately $630,000. The Company classifies the outstanding obligation of
$288,701 at March 31, 1998 as notes payable. This note was repaid in weekly
installments of $12,500 with the final payment made in September of 1998.
Interest expense of approximately $5,471 was recorded for the six months ended
September 30, 1998.
29
<PAGE>
During the quarter ended June 30, 1996, the Company issued convertible
debentures of $1,257,988 with 10% interest per annum and a 7% commission. The
principal amount is convertible in whole or in part into shares of the common
stock of the Company at a conversion price equal to 65% of the average closing
bid price for the common stock for five trading days immediately prior to the
conversion. In no event shall the conversion price be less than $.20 per share
or more than $.75 per share. In conjunction with the debentures, the Company
granted 1,000,000 warrants exercisable at $.25 per share to two consultants.
Warrants for 46,000 shares were exercised for $11,500 during the year ended
March 31, 1997. The Company recorded a financing expense of $25,000 for the fair
value of the warrants granted. The fair value of the warrants was determined
based upon the fair value of services received by the Company in May and June of
1996.
As of March 31, 1997, convertible debentures of $290,000 were converted into
1,450,000 shares of the Company's common stock by several off shore companies
under Regulation S and $967,988 of convertible promissory notes payable were
outstanding and in default by the Company. Interest expense of $97,000 and
$24,702 was recorded for the years ended March 31, 1998 and 1997. Subsequent to
September 30, 1997, the Company negotiated a one year extension agreement and
agreed to add 15% to the note as a deferred financing cost of $110,724.
During fiscal March of 1998, convertible debentures of $229,848 were
converted into 6,037,668 shares of the Company's common stock. This brought
the total conversion of $519,848 of debentures into 7,487,668 shares as of
March 31, 1998. For the five months ended March 31, 1998, the Company
amortized $46,134 as a non-cash financing cost, which is classified as
interest expense. The convertible notes are secured by the Company's
entitlement to any net cash proceeds derived from its interest in ATRE
property.
In June of 1998, a convertible debenture holder converted a note payable
with a balance of $91,750 into 2,823,077 shares of the Company's common stock.
In August 1997, the Company issued 2,050,000 common stock warrants at an
exercise price of $.10 per share as part of a consulting agreement entered
into, whose term ends August 1999. Deferred consulting costs of $100,000
resulting from this transaction were recorded at the fair market value of the
services rendered and approximately $31,000 was expensed for the year ended
March 31, 1998.
In October 1997, the Company borrowed $360,000 from an unaffiliated entity
with interest at 10% per year. At March 31, 1998, $185,208 is outstanding on
this obligation. This note was repaid in September of 1998 by weekly payments
of $7,500. Interest expense for the year ended March 31, 1998 was $12,708.
In the quarter ended June 30, 1998, the Company borrowed a combined total of
$2,721,860 from GJ Products Corporation in the amount of $1,912,360 and from
ATRE for $809,500 to finance certain purchases for the Company's toy
inventory. Both notes are non-interest bearing loans and are due upon demand.
In six month period ended September 30 1998, the Company applied $37,431 as
payment against the GJ Products Corporation's note for a discount received by
them for
30
<PAGE>
the Company's toy inventory purchases. At September 30, 1998 $1,865,529 and
$809,500 were outstanding on these obligations to GJ Products Corporation and
ATRE, respectively.
In July of 1998, the Company raised $20,000 from the exercise of warrants
for 200,000 shares of the Company's common stock [See Note 13F].
On July 9, 1998, the Company granted options to purchase 1,000,000 shares of
common stock to the chief executive officer of a potential customer and in
consideration of certain fulfillment orders submitted to the Company. These
options may be exercised for $0.10 per share.
In August of 1998, the Company issued 2,000,000 options to the Chief
Executive Officer at an exercise price of $.10 per share for his personal
guarantee on the Company's loan agreements and loans made to the Company.
On November 2, 1998, convertible debentures with a balance of $848,861 were
reinvested into a new note for approximately $925,000 for a new two year term
expiring October 31, 2000 with interest of 10%. The repayment term is a
weekly amount of $6,250 in 1998 and $12,500 in the years 1999 and 2000. In
addition, there is an acceleration clause of repayments for certain events
and a 5% late charge for any delinquent payments. The notes contain an option
to convert the principal and interest balance into the common stock of the
Company subject to certain pricing calculations. Collateral security includes
all the assets of the Company and a personal collection guarantee as
additional security to holder after subordination to primary lender
[See Notes 7D and 10E].
On October 24, 1998, the Company issued 1,499,523 shares of common stock to
the Company's president pursuant to a settlement agreement.
The Company owed approximately $4,951,000 in short-tem debt financing at
September 30, 1998.
NEW AUTHORITATIVE PRONOUNCEMENTS
The FASB has issued SFAS No. 130, `Reporting Comprehensive Income." SFAS
No. 130 is effective for fiscal years beginning after December 15, 1997.
Earlier application is permitted. Reclassification of financial
statements for earlier periods provided for comparative purposes is
required. SFAS No. 130 is not expected to have a material impact on the
Company.
The FASB has issued SFAS No. 131, `Disclosures About Segments of an
Enterprise and Related Information." SFAS No. 131 changes how operating
segments are reported in annual financial statements and requires the
reporting of selected information about operating segments in interim
financial reports issued to shareholders. SFAS No. 131 is effective for
periods beginning after December 15, 1997, and comparative information for
earlier years is to be restated. SFAS No. 131 need not be applied to interim
financial statements in the initial year of its application. SFAS No. 131 is
not expected to have a material impact on the Company.
In June 1998 the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative
31
<PAGE>
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. SFAS No. 133 requires that an entity
recognize all derivatives as either assets or liabilities in the statement of
financial position and measure those instruments at fair value. The
accounting for changes in the fair value of a derivative depends on the
intended use of the derivative and how it is designated; for example, gains
or losses related to changes in the fair value of a derivative not designated
as a hedging instrument is recognized in earnings in the period of the
change, while certain types of hedges may be initially reported as a
component of other comprehensive income (outside earnings) until the
consummation of the underlying transaction. SFAS No. 133 is effective for all
fiscal quarters of fiscal years beginning after June 15, 1999. Initial
application of SFAS No. 133 should be as of the beginning of a fiscal
quarter; on that date, hedging relationships must be designated anew and
documented pursuant to the provisions of SFAS No. 133. Earlier application of
all of the provisions of SFAS No. 133 is encouraged, but it is permitted only
as of the beginning of any fiscal quarter. SFAS No. 133 is not to be applied
retroactively to financial statements of prior periods. The Company does not
currently have any derivative instruments and is not currently engaged in any
hedging activities.
YEAR 2000 ISSUE
The Company has attempted to evaluate the impact of the year 2000 issue on its
business and does not expect the amounts to be expensed over the next 12 months
to be material. No such costs have been expensed to date, since the Company
utilizes an off the shelf software package.
Currently, the Company anticipates commencing communication with its significant
vendors and customers to determine the extent that year 2000 compliance issues
of such parties may affect the Company. At this time, the Company believes that
there will be no disruption in business due to its customers' or vendors' year
2000 readiness. The Company has not established a contingency plan. There can be
no guarantee that the systems of such other companies will be timely converted
without a material adverse effect on the Company's business, financial condition
or results of operations.
IMPACT OF INFLATION
The Company does not believe that inflation had an impact on sales or income
during the past several years. Increases in supplies or other operating costs
could adversely affect the
Company's operations; however, the Company believes it could increase prices to
offset increases in costs of goods sold or other operating costs.
32
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
None.
ITEM 2. CHANGES IN SECURITIES.
On August 25, 1997, as compensation pursuant to four consulting
agreements, the Company issued 250,000 shares of Common Stock, and warrants to
purchase an aggregate of 2,050,000 shares of Common Stock, exercisable at $0.10
per share. The warrants expire on August 24, 1999. Murray T. Scott, a director
of the Company, received the 250,000 shares of Common Stock and 250,000 of such
warrants. In July 1998 two individuals who received warrants under the
consulting agreements each exercised warrants to purchase 100,000 shares of
Common Stock. All of the issued shares and all of the shares underlying the
warrants were subsequently registered pursuant to the Company's Registration
Statement on Form S-8 filed in September 1997.
On July 9, 1998, options to be issued to each of Messrs. Lu and Peter
Benz were approved by the Board of Directors for the purchase of shares of
Common Stock for $0.10 per share, as follows: 4,000,000 options to be issued to
Mr. Lu contingent on certain events; 2,000,000 options to be issued to Mr. Benz
contingent on certain other events; and 2,000,000 options to be issued to each
of Messrs. Lu and Benz upon the first closing of a joint private offering of
securities of the Company and another issuer, which offering was subsequently
terminated without closing. To date, none of the other contingent events have
occurred. Such options, if issued, will expire July 9, 2003.
On July 9, 1998 Mr. Lu was granted additional options (which were
issued in August 1998) to purchase 2,000,000 shares of Common Stock for $0.10
per share in consideration of his (i) personal guaranty of the Company's bank
line of credit and (ii) loans made to the Company. Such options expire July 9,
2003.
On July 9, 1998, the Company granted options to purchase 1,000,000
shares of Common Stock to the chief executive officer of a potential customer
and in consideration of certain fulfillment orders submitted to the Company.
These options may be exercised for $0.10 per share.
On October 24, 1998, the Company issued 1,499,523 shares of Common
Stock to Mr. Lu pursuant to a settlement agreement between the Company, Mr. Lu
and four consultants.
The Company believes that the transactions set forth above were exempt
from registration with the Commission pursuant to either Section 4(2) of the
Securities Act as transactions by an
33
<PAGE>
issuer not involving any public offering, Section 3(a)(9) of the Securities
Act as a transaction involving an exchange by an issuer with existing
security holders, or Regulation S under the Securities Act as a transaction
that occurred outside the United States. No broker-dealer or underwriter was
involved in the foregoing transactions. All certificates representing such
securities have been or will be appropriately legended.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
EXHIBIT NO.
27 Financial Data Schedule
(b) Reports on Form 8-K
None.
* * * * *
34
<PAGE>
SIGNATURES
In accordance with requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: Cerritos, California DIAMOND ENTERTAINMENT CORPORATION
February 24, 1999
By: /S/ JAMES K.T. LU
---------------------------------
James K.T. Lu
Chairman of the Board,
Chief Executive Officer;
President; Secretary and Director
By: /S/ FRED U. ODAKA
---------------------------------
Fred U. Odaka
Chief Financial Officer,
Principal Financial Officer
35
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION
EXHIBIT INDEX
Exhibit
Number
- -------
27 Financial Data Schedule
36
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND THE CONSOLIDATED STATEMENT OF OPERATIONS AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO THESE STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> MAR-31-1999
<PERIOD-END> SEP-30-1998
<CASH> 47
<SECURITIES> 0
<RECEIVABLES> 1,394,229
<ALLOWANCES> 266,222
<INVENTORY> 3,276,951
<CURRENT-ASSETS> 4,481,281
<PP&E> 1,009,473
<DEPRECIATION> 713,484
<TOTAL-ASSETS> 5,427,670
<CURRENT-LIABILITIES> 6,998,628
<BONDS> 0
0
376,593
<COMMON> 10,529,397
<OTHER-SE> (12,486,551)
<TOTAL-LIABILITY-AND-EQUITY> 5,427,670
<SALES> 2,077,307
<TOTAL-REVENUES> 2,148,175
<CGS> 1,407,810
<TOTAL-COSTS> 2,567,169
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 182,250
<INCOME-PRETAX> (592,244)
<INCOME-TAX> 0
<INCOME-CONTINUING> (658,244)
<DISCONTINUED> 0
<EXTRAORDINARY> 66,000
<CHANGES> 0
<NET-INCOME> (592,244)
<EPS-PRIMARY> (0.01)
<EPS-DILUTED> (0.01)
</TABLE>
